The seven banks that founded Project Turquoise last November have stood shoulder-to-shoulder in defense of the putative trading system as it has been hit by criticism, but their fraternity belies their deep-seated rivalry as they fight for market share in their businesses.

Competition between the banks for equity research, sales and trading revenue is notoriously fierce. It is set to increase over the next year as their fund management clients turn the screw, forcing the brokers to deliver new, value-added services while driving down costs.

Regulatory changes, principally the markets in financial instruments directive, which takes effect in Europe on November 1, present challenges and opportunities to the banks.

Turquoise is their response to the abolition of rules mandating brokers and banks to use exchanges, but the opening of European trading will bring with it increased pressure from institutions which were previously unable to compete evenly with Europe’s dominant equity dealers.

Electronic trading services, such as algorithmic trading and direct market access, give banks the opportunity to build market share through technological innovation. The banks are plowing money into these features as fund managers get to grips with the nuances of trading techniques.
Prime brokerage is also up for grabs, particularly since hedge funds are reviewing their brokerage relationships in the fallout from the sub-prime collapse of recent weeks.

The banks are focusing on these services to lesser or greater degrees. Financial News looks at the differences in their approaches to research, electronic trading, trading systems and prime brokerage.

Citi may have produced the lowest revenues from equity trading last year of the Turquoise banks but its business is growing faster than most of its larger rivals’, increasing 68% between 2004 and 2006.

The US banking group looks set to continue this growth. It claims: “We continue to invest where others cut back – more traders, more research analysts, more teams in emerging markets and more offices servicing more clients.”

The bank’s prime brokerage business has trebled its market share in the past three years, making it one of the fastest growing in the business, while its portfolio trading revenues have improved by 200% this year compared with last and its self-directed trading business has grown by almost 500% in a year.

It is expanding its algorithmic trading business and wants to develop additional services around the standard algorithmic trading suite offered by its main rivals. Citi has a multi-broker execution management system, Lava, which offers fund management customers access to algorithms provided by other brokers.

It is also a founder of Opus-5, a trading system for unlisted stocks launched last week.

The Swiss bank’s equity trading business may be growing more slowly than most of its main peers’ – revenues increased 55% over the three years to the end of last year – but it is poised to profit from the predicted growth in algorithmic trading.

Credit Suisse’s advanced execution service is the most celebrated algorithmic trading service in Europe, having won more electronic trading awards, including Financial News’ 2007 European buyside trading survey, than its rivals.

The bank is developing its extensive suite of algorithms this year to include features for trading on dark liquidity pools, internal crossing engines administered by banks designed to lower the cost of trading in Europe’s large block trades.

The bank has an internal crossing network, or dark pool, in the US and is set to push that service to buyside clients in the run up to Mifid’s introduction.

Credit Suisse, which is involved in more alternative trading systems in the US than any of its peers, is replicating this approach in Europe. It was the first Turquoise bank to announce that it is using Instinet’s Chi-X, a potential rival to Turquoise.

Deutsche Bank has the largest equity trading revenues of the European banks involved with Turquoise. It is growing faster than any of its Swiss banking peers, having increased 63.7% in the three years to 2006. It is third to Goldman and Merrill on a global basis.

The equities business is made up of equity research, sales and execution. The bank sees an advantage in its “Alpha- capture” analytics.
Jason Good, global head of equity sales trading at Deutsche, said: “Clients are realizing they need to capture Alpha and we are well positioned to meet this demand as we have been tracking Alpha performance within research and sales for three years with Alpha capture analytics products. Alpha extraction via research and sales is a powerful product – this is recognized and valued by clients.”

Block trading is a focus. Good said: “We have executed more block transactions than before by identifying new clients and pools of liquidity and matching bilaterally and then crossing them in the market.”

Deutsche wants to challenge the status quo in prime brokerage by taking advantage of recent events in that market.

Good said: “The adverse credit markets are forcing a flight to quality and hedge funds are pulling balances from some of the more established prime brokers as they move away from lower quality credit and the sole prime broker model.”

Goldman Sachs dominates global equity trading. Last year, the investment bank made $8.5bn from equity trading, more than any of its peers and a quarter more than its nearest rival Merrill Lynch, which returned $6.7bn.

Its equity trading business is also growing faster than its Wall Street rivals’ with the exception of Merrill. Goldman’s equity trading revenues rose 81.5% between 2004 and 2006, an increase only bettered by Merrill’s 121%.

The bank has a reputation as a market leader in equities trading, from principal trading to algorithms and prime brokerage, which it dominates with Morgan Stanley. One buyside trader said Goldman was “consistently the strongest from a capital commitment point of view”.

The bank took the step of opening its European proprietary trading system to other brokers in June, enabling Goldman’s clients to trade using its rivals’ algorithms, following the successful roll-out of a multi-broker system in the US.

The bank’s Turquoise partners remain absent from the European list, but Goldman said it was using the US version.

Goldman has also launched a groundbreaking trading system for unregistered securities but banks, including Citi, Merrill Lynch and Morgan Stanley, said last week they are working on a rival platform.

• Merrill Lynch

Merrill Lynch’s equity trading business has grown faster than its main rivals’, more than doubling over the past three years and catapulting the US investment bank from fourth to second among this peer group. But it has some way to go before it catches Goldman Sachs.

A driving force behind Project Turquoise and its sister development Project Boat, the trade reporting system launched in September, Merrill is also a founder in the Opus-5 trading system for unregistered stock.

Merrill is one of Europe’s leading performers for fund managers trading principal or using algorithms, where it has an agreement with leading algorithmic trading system company Portware. It also continues to develop its prime brokerage business to rival Goldman Sachs and Morgan Stanley.
The bank’s equity team underwent changes this year culminating in John Crompton, a former adviser to the UK Treasury, joining Merrill Lynch as head of its European equity capital markets business in May.

That month, Merrill announced a shake-up of its senior management in which two of its six executive committee jobs were awarded for the first time to staff based in Europe, but the head of global equities role remained in New York.

• Morgan Stanley

A simple comparison between Morgan Stanley’s equity business and its peers’ is complicated because the investment bank does not break out its trading revenues by asset class but it is safe to say the US bank competes on an equal footing with its six Turquoise peers.

The bank places particular emphasis on electronic trading. Eli Lederman, Morgan Stanley’s managing director of electronic trading, claims his bank and Credit Suisse were the first to spot the full potential of electronic trading and algorithms in particular.

Lederman’s 18-strong electronic trading team handles more orders in an average day than the 500 traders on the bank’s trading floor.
This focus seems to be paying off. It is, with UBS and Credit Suisse, one of the top three European trading banks for algorithmic trading and direct market access, according to the Financial News 2007 buyside trading poll.

But Morgan Stanley is not resting on its laurels. The bank is developing its algorithms to offer its customers new, more flexible trading techniques as well as developing its internal crossing network.

Last week, it threw its weight behind the latest bank-led trading consortium, to develop Opus-5, an open system for trading privately held stocks, and announced it had a partnership with Fidessa Latent Zero, a trading system supplier, to offer Latent Zero’s fund management customers easier access to the bank’s electronic execution services.

• UBS

The Swiss investment bank last week may have blamed the demise of Dillon Read and “continued difficult market conditions in the US mortgage securities market” for its quarterly fixed income revenues losing 31% on last year. However, its equity revenues were up 36%, reflecting a three-year trend that has seen its annual returns from stock sales and trading rise 53% from $2.57bn in 2004 to nearly $4bn last year.

Its European cash equity trading business is strong in the main centers, including the UK, Switzerland and Germany and makes up the biggest revenue component of its total equity-related revenues, according to the bank. UBS was recognized as the best in Europe for trading and execution and equity sales by Thomson Extel in its annual wards in June and rated high in the Financial News 2007 Buyside survey.

The bank is building up its prime brokerage business to the extent that it claims to be running third to market leaders Goldman Sachs and Morgan Stanley, a claim backed up by a survey by Eurohedge, a hedge fund research company. It also claims to be growing faster year-on-year than its larger competitors.

A focus for the bank is electronic execution, including direct market access and capital access, building on the progress it has made in electronic trading over the past few years.

UBS, by its own admission a latecomer to algorithmic trading compared with Credit Suisse and Morgan Stanley, claims to have caught up. Nick Holtby, head of client execution services, said: “We might have been late to the party but the performance of our technology is as good as you’ll get anywhere.”